Jan. 24 (Bloomberg) -- European stocks may surge 50 percent
in the next two to three years as investors switch to shares
from bonds amid higher risk premiums and record-low interest
rates, a Credit Suisse Group AG global strategist said.

About $22 billion moved into equity funds around the world
in the week ended Jan. 9, the second-biggest inflow on record,
according to data going back to 1996, compiled by EPFR Global, a
subsidiary of Informa Plc. Equity funds lured $200 million more
inflows than bonds as of Jan. 16, the sixth consecutive week of
more inflows, Citigroup Inc. wrote in a report on Jan. 18.

“We see extreme potential for European equities, even if
they come back down temporarily,” Hong-Kong based Adrian
Zuercher said in an interview in Zurich. “We’ve seen record
inflows into equities in the first week of the year. That points
to a risk-on mode that is so high that investors are willing to
buy stocks amid higher volatility, as they expect to get
compensated for the risk they take.”

The benchmark Stoxx Europe 600 Index rallied 3.1 percent
through Jan. 23 as U.S. lawmakers reached a compromise to
prevent more than $600 billion of tax increases and spending
cuts that may have pushed the world’s largest economy into a
recession, and companies reported better-than-expected earnings.

“We have extremely high risk premiums for equities,”
Zuercher said. “They are so high that one can make a long-term,
structural case. After years of outflows from equity markets and
big disinterest and distrust, seeing the first signs of so much
money coming in is positive. We would only see corrections as a
chance to enter a cheaper market.”

Risk Premium

The difference between the earnings yield on Stoxx 600
equities and rates on German 10-year bunds -- known as the
equity risk premium -- was 3.63 percentage points as of Jan 23.
The index’s valuation is at 12.1 times estimated earnings,
compared with 13.5 times for the Standard & Poor’s 500 Index.

“Stock markets, compared with bond markets, are extremely
cheap,” Zuercher said. “Investors learned to live with their
‘volaphobia’ last year even amid high political uncertainty. We
don’t have that as much this year; in addition, we have the
infrastructure on the monetary side that not only calmed market
participants, but forced them to take risk. Even with higher
inflation numbers, central banks may want to keep interest rates
low due to debt levels.”

The European Central Bank’s benchmark rate stands at a
record low of 0.75 percent.

Interest Rates

“Bonds are uninteresting because of their negative real
yield,” Zuercher said. “We don’t expect a trend turn in 2013,
but we may see it in the next two to three years. Rates will
remain low, but the performance driver is gone.”

The U.K. 10-year inflation-linked yield tumbled to a
record-low minus 0.99 percent on Jan. 10. A negative yield means
investors buying the securities will receive payments below the
retail price index if they are held to maturity.

Credit Suisse raised its holdings of European equities to
overweight from neutral in June, saying they were undervalued
and would probably rally. In October, Switzerland’s second-largest lender said it would buy equities whenever they fell
temporarily.

“It looks like it doesn’t take much for investors to buy
stocks, when only a few months ago the opposite was true,”
Zuercher said. “Many people are still on the sidelines and too
defensive. They’re just waiting for a little correction. We see
big potential for stock markets.”